Hi all,
This is a compliance question – can I do this in my SMSF, or not?
Here's the scenario…1. Borrow to buy a property in my SMSF.
2. Then use existing SMSF funds (non-borrowed) to improve/add value to the property. eg replace flooring, add a carport or airconditioning, update bathroom, etc.I have received conflicting opinions – from the ATO, my SMSF accountant, my mortgage broker, and the lender I intend to use, – and I cannot get a definitive answer. The answer will mean a big difference to the sort of property I can buy.
If the answer is no, all I'll be able to do is buy a property that needs nothing.If yes, I'll be able to buy one that I can add value to.Does anyone know for sure?Hi Grateful
My understanding on the issue is;
1/ You can use borrowings to repair and/or maintain the property but not improve or develop it. Borrowed money can also be used to pay expenses incurred in connection with purchasing the property and obtaining the loan such as establishment costs and stamp duty.
2/ The fund can use its own funds to improve/renovate the property as any other investor can but only if the property does not have a charge/mortgage over it. My understanding of why this is so is because if you used the SMSF’s own cash funds to improve or develop the mortgaged property the risks are increased as the improvements would then be held under the lenders charge/mortgage.
Thanks for looking into this Mike, your answer makes sense.
I've since been looking into ATO rules on replacement assets, and also what constitutes substantial vs cosmetic renovations. Cosmetic renovations are allowed apparently. Although lots of examples are given, the info seems contradictory or ambiguous.
I am concerned that as work is done on the property, it will be very easy to cross the line into "substantial renovations", and at audit time a private ruling would probably have to be made by the ATO. The fund could easily become non-compliant.So it looks like the best sort of property to buy will be a fairly new one, or a totally renovated one, neither of which need anything done. Although I'll have to look into the replacement asset rules more closely.
Hello grateful;
Back in the early noughties we had a commercial property that our SMSF controlled that needed significant improvement made on it in order to lease it out.It meant reborrowing up to the original loan. The tax office and our accountants told us it was a no go. We didn't accept the advice because commercially it did not make sense. We went to our family solicitor who referred us to a top tax lawyer who for $1500 wrote an opinion. It was if you like a letter of comfort and so we went ahead. The superannuation legislation is very complex and what we learned is that even accountants who are closely involved with SMSF's don't know all the ins and outs.My advice is get the best legal advice before accepting that you cannot use funds that the super has to make improvements when you still have a mortgage. Earlier this year I attended an SMSF seminar where the convener a Lawyer who advises SMSF's
revealed that for years the tax office had been advising trustees that they could not spend money on their SMSF controlled buildings knowing full well this was not true.The tax office and more to the point many in the treasury do not like the fact that super is a legal tax shelter. Another questionable half truth is the story about a pension cannot be taken inspecie only in cash. An ATO interpretive decision 2002/690 was withdrawn on 29/07/2005 and replaced with an APRA ruling Superannuation Circular March 2004 see ATO I.C. 2
With regards to the SIS act there are wheels within wheels….. accept nothing at face value base your actions on the law not the spirit of the law.Regards LR
Wow, thanks LR, that gives me much more confidence about the improvement issues.
There are replacement issues also, in Section 67a and b of the SIS act (and in the Explanatory Memorandum) that don't make sense commercially ie an asset cannot be replaced, nor can the fund receive cash instead. I've been advised there are groups currently lobbying into having these changed.
Kris from EvolveMySuper has been very helpful to me with all this, he is also currently writing an ebook about SMSFs and property – someone needs to!
I'll update this post as I go…
Thanks again for your reply.
Good to know you are grateful Grateful!
I have read the Explanatory Memorandum that came out with the 07/07/10 changes and my interpretation is Yes – it can be done provided any improvement / renovations are NOT so significant that a replacement asset is created.
The key issue as I read it is:
Circumstances not permitting a replacement asset include:
– the replacement by way of improvement of real propertySo I guess the big question is – how much improvement to a property will create a 'replacement asset' ?
I have put forward the above interpretation to some other SPAA Specialists and they have agreed with my interpretation.
I know this issue is something that SPAA has questioned the ATO about recently – so hopefully we will see an ATO interpretative decision on this issue in the coming months to give some certainty to SMSF trustees. Until this happens each SMSF trustee must take their own advice and make their own decision.
In the interim a private ruling may be applied for if you want specific advice on your situation.
All the best!
Grow SMSF | Grow SMSF
https://growsmsf.com.au
Email Me | Phone MeSelf-Managed Super Fund (SMSF) Specialist Accountants
I'll have to ask a couple of really stupid questions:
If a smsf can buy commercial property, which like any other property requires repairs, maintenance and eventual replacement (a building is a diminishing asset – unlike the land on which it sits), why would the law allow the risk of diminished returns through an unleaseable asset over the replacement/upgrade of the asset to continue if not improve those returns?
Didn't the law change a few years ago with regard to allowing smsf to borrow (under the right structures)? Why would you not use the same structure (eg unit trust etc) to borrow the money?
Did the regulator hit any superfund during the height of the GFC for having invested in property trusts eg Centro, Macquarie etc which all halved in value? Could that investment in property trusts not have been seen as risky (or any other managed investment or direct investment in equities)??
Scott No Mates – you are right, it makes no sense. I guess that renovations may be construed as property development, which can be risky. The new rule hasn't been thought through, I feel.
Evolve, thanks, I have spoken to more SMSF people, including a couple of lawyers, everyone has a different opinion. Some say it's perfectly fine to use non-borrowed funds to renovate/improve or even add a granny flat to the property. Some have said no way. I spoke to someone in ATO compliance, who could offer no opinion, just advised me to get a ruling, or speak to a financial planner.
Sigh, I'll keep going…
I appreciate everyone's thoughts on this.
pretty typical, those that enforce the regulations won’t tell you, those that manage them won’t give advice.
Hi guys,
Just a quick update on this issue.
In September the ATO discussed this issue (and numerous other SMSF borrowing issues) with superannuation industry representatives at their NTLG superannuation technical sub-group meeting.
I have posted an article about this issue in more detail on my blog:
Hopefully we will have a resolution on this issue early next year.
Grow SMSF | Grow SMSF
https://growsmsf.com.au
Email Me | Phone MeSelf-Managed Super Fund (SMSF) Specialist Accountants
Great post on your blog, thanks Evolve.
This issue is so contentious, I've pretty much decided to buy off the plan instead, making sure the land and building are both in the one contract. Can't get into trouble that way.
It's a shame really, however I can see the ATO's point, that adding value by using the fund's own money to improve the property puts more of the fund at risk than just the original asset.
Thanks everyone!
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